Question

(Impairment) Assume the same information as E11-16, except that Suarez intends to dispose of the equipment in the coming year. It is expected that the cost of disposal will be \(20,000.

Cost	\)9,000,000
Accumulated depreciation to date	1,000,000
Expected future net cash flows	7,000,000
Fair value	4,800,000

Instructions

1. Prepare the journal entry (if any) to record the impairment of the asset at December 31, 2017.
2. Prepare the journal entry (if any) to record depreciation expense for 2018.
3. The asset was not sold by December 31, 2018. The fair value of the equipment on that date is \(5,300,000. Prepare the journal entry (if any) necessary to record this increase in fair value. It is expected that the cost of disposal is still \)20,000.

Short answer

Answer

1. Loss on impairment = $3,220,000
2. No entry required
3. Recovery of loss on impairment = $500,000

Step-by-step solution

Meaning of Impairment 

A permanent loss in value of an asset is considered an impairment. This can be a result of permanent damage or technical problems that impede it from delivering the performance it used to deliver.

(a) Preparing journal entries

Date	Particular	Debit ($)	Credit ($)
	Loss on Impairment	3,220,000
	Accumulated Depreciation Equipment		3,220,000

Working notes:

Calculating the amount of loss on impairment

Cost	$9,000,000
Accumulated depreciation	1,000,000
Carrying amount	8,000,000
Less: Fair value	4,800,000
Plus: Cost of disposal	20,000
Loss on impairment	$3,220,000

(b) Explaining the journal entry

Depreciation is not taken on assets intended to be sold. Therefore no entry should be passed.

If the assesses sells, destroys, or demolishes the asset in the same year that it was purchased, they cannot claim the deduction.

(c) Preparing journal entry 

Date	Particular	Debit ($)	Credit ($)
	Accumulated Depreciation-Equipment	500,000
	Recovery of Loss from Impairment		500,000

Working notes:

Calculation of recovery of impairment loss

Fair value $5,300,000
Less: Cost of disposal 20,000	$5,280,000
Less: Carrying amount	4,780,000
Recovery of loss on impairment	$ 500,000